Russia's credit rating cut to near 'junk' status

Russia's central bank raises key interest rate

A file photo of the head office of Bank Rossiya in St. Petersburg, Russia. S&P said in a statement it has dropped Russia's rating to one level above 'junk status' because the tense situation over Ukraine was causing investors to pull money out of the country. (Elena Ignatyeva/Associated Press)

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Russia felt the impact of the Ukrainian crisis on its economy on Friday, when ratings agency Standard & Poor's cut its credit grade for the first time in five years and the central bank raised interest rates to keep the sliding currency from fueling inflation.

S&P said in a statement it dropped Russia's rating to one level above "junk status" because the tense situation over Ukraine was causing investors to pull money out of the country.

Russia, it warned, "could see additional significant outflows of both domestic and foreign capital from the Russian economy." S&P said it is keeping a negative outlook, meaning it could downgrade the country again if economic conditions worsen.

Credit ratings are important for the economy because they determine how expensive it will be for a country or company to borrow on international markets and eventually determine how much consumers will be paying for their loans.

As Russia does not borrow much on international bond markets, the impact on its public financing costs is likely to be limited. Russia had 4.4 trillion rubles, or $135 billion CDN, in outstanding government bonds as of April 1. But the downgrade amounts to a warning on the risks of investing in the country and the low grade is surprising for a government that has very low levels of public debt.

Economic problems

Economic indicators have been pointing to problems in Russia's economy.

Investors spooked by the possibility of Western sanctions on Russia's economic interests pulled about $70 billion out of the country in the first three months of the year — more than in all of 2013. Economic growth slowed to 0.8 per cent during that period, sharply worse than earlier forecast while.

And the currency slumped, hitting records lows against the dollar. On Friday, it was down 0.7 per cent at 36.03 rubles per dollar. The ruble's weakness, in turn, has been pushing inflation up in Russia as a lower currency makes imports more expensive.

The Russian Central Bank sought to fight that trend by increasing its main interest rate, the one-week auction rate, by 0.5 percentage points to 7.5 per cent on Friday.

The bank, which had already hiked its rate sharply in March from 5.5 per cent, said in a statement it aimed to keep the inflation rate under 6 per cent this year and does not expect to cut the rate back in the coming months.

The interest rate increase is a double-edged sword — it could help stabilize the currency by attracting foreign investors in search of higher returns, but will also tend to hurt economic growth by making loans more expensive.

Moscow in March recognized a hastily called referendum in Ukraine's Black Sea peninsula of Crimea and annexed it weeks later, attracting condemnation of the West as well as sanctions targeting individuals. Secretary of State John Kerry on Thursday warned Moscow that unless it took immediate steps to de-escalate the situation, Washington would impose additional sanctions.

Russia's MICEX benchmark was 0.8 per cent down in later afternoon trading on Friday as the markets have been declining for five days in a row.